Generic Drug Industry’s Contraction is Impacting Stock Prices

The recent surge of merger activity in the pharmaceutical sector suggests that big drugmakers continue to crave as much of the generic market as they can get.

That includes those firms that are already large players there – as the New York Times reported earlier this month, generic drug company Mylan made an unsolicited offer to acquire Perrigo for about $29 billion in a deal that would expand its product offerings.1

An eventual agreement would mark the latest mega-merger in an industry that has been undergoing a furious round of consolidation, with health care deals this year already at record levels even before this offer was made.

In a perfect example of this hyper-consolidation, the Times reported on Tuesday that Teva Pharmaceutical has offered to buy Mylan for $40 billion in a deal that would make a combined company with $30 billion in revenue.2

The pharmaceutical takeover spree has been sparked by companies looking for new products and pipelines to offset a fall in sales.

Bloomberg said that Teva is no exception: The company’s top-selling drug, Copaxone, will compete with generic copies this year, and its executives have been vocal about their appetite for acquisitions. Novartis’s Sandoz unit recently won approval to make a generic version of the multiple sclerosis treatment.

Mylan has also sought approval to market generic Copaxone, though its version hasn’t been approved yet.

Generic drugmakers themselves have also wanted to diversify their portfolios as revenues for their product lines have slowed in recent years, Michael Faerm, an analyst for Wells Fargo, told the Times. Fewer brand-name drugs have been losing patent protection, and competition from new players — especially manufacturers in India — has grown more intense.

“So the garden-variety generics in many cases — that opportunity is not what it once was,” Faerm said. “In order to keep growing, they need to look elsewhere.”

Some companies, like Teva and Actavis, have sought to expand into brand-name drugs, while others, including Mylan, have focused on harder-to-make generic drugs like respiratory products and extended-release medications. That’s one reason Perrigo, with its portfolio of dermatologic creams and over-the-counter drugs, looks attractive to Mylan, he said.

Ultimately, the focus comes from the seismic shift in healthcare spending by consumers. The share of generics out of all the prescriptions filled in the US increased from 18% in 1984 to nearly 80% now, according to an article earlier this month on Forbes.com.3

This decade has seen branded drugs worth billions of dollars in sales lose patents. In 2012 alone, Forbes.com said, the sales value of drugs coming off patent was $33 billion and another $47.5 billion in sales will come under threat of patent expiry this year.

As Forbes.com put it, that’s just what the doctor has ordered for the US health care system. In the 10-year period between 2003 and 2012, generic drugs generated $1.2 trillion in savings to the US health care system.

Post-industry consolidation, however, fewer generic manufacturers are applying to the FDA for permission to produce those drugs. With substantially fewer manufacturers producing a particular generic drug (in some cases only 2 or 3 makers), generic prices have also begun rising.

As the market and prices have expanded, so have the stock prices of generic drug companies. Over the past 12 months, the Drug-Patent Cliffs motif has gained 51.2%. Over that same period, the S&P 500 has increased 14.5%.

The content contained herein is for informational purposes only and is not a solicitation or a recommendation that any particular investor should purchase or sell any particular security. Motif does not assess the suitability or the potential value of any particular investment. You are responsible for understanding the risks involved with investing in securities and for all investment decisions you make. Investments in small cap companies and companies within a particular sector involve additional risks unique to those companies which you should be aware of before making any investment decision. The information contained herein is obtained from sources believed to be reliable, but its accuracy or completeness is not guaranteed.

Investing in securities involves risk, including the possible loss of principal; individual investments or a collection of individual stocks such as Motifs which are concentrated in an idea or theme may face increased risk of price fluctuation over more diversified holdings due to adverse developments within a particular industry or sector; diversification does not assure or guarantee better performance and cannot eliminate the risk of investment loss; past performance does not guarantee future results; please consult the investment prospectus for additional information on risk.

Motif Capital Management, Inc., is an SEC-registered investment adviser and a separate, wholly-owned subsidiary of Motif Investing, Inc., a registered broker-dealer and member SIPC.